Problems Loom for Glencore if Xstrata Deal Fails

By

Andrea Hotter

Jun 27, 2012 2:59 pm GMT

Reuters

A recent European Commission ruling means that a failed merger between Glencore and Xstrata could lead to the break-up of the two companies’ marketing agreements and land the Swiss-based firm with serious governance and debt issues, lawyers in Brussels say.

This makes the deal critical to Glencore, and increases the likelihood that it will go all-out to secure shareholder support by bumping up its offer.

In the existing all-share deal, Glencore is currently offering 2.8 of its shares for each Xstrata share, plus a £173 million package to retain Xstrata’s top management including CEO Mick Davies. But the shock opposition of Qatar Holding–Xstrata’s second biggest investor–to these terms means the deal is at risk of rapidly unraveling.

The problems date back to February, when the EC took jurisdiction of the merger, a move that effectively determined Xstrata was no longer controlled by Glencore. As such, the two companies will be considered competitors in the products they trade and produce, such as coal, copper and zinc. Lawyers say that if the merger fails and the companies remain competitors, market advisory agreements in place between the two companies, which involve sharing of pricing and production information, would breach anti-trust laws and need to be revised, possibly scrapped.

“A merger would see the two companies return to the status quo in terms of their marketing agreements, but failure would lead the EC to look at those agreements once more and determine whether, as competitors, they were appropriate,” one Brussels-based anti-trust lawyer said. “The agreements would almost certainly be found wanting, given the high level of market information sharing between what would now be deemed rivals.”

Xstrata and Glencore both declined to comment.

Marketing has always played a crucial role in the relationship between Glencore and Xstrata, and is one of the reasons why the two firms have decided to walk up the aisle after so many years of flirting. Metals and minerals marketing accounted for $1.2 billion or 65% of income from Glencore’s marketing activities last year, the company said in its annual results.

In coal, for instance, Glencore acts as market adviser to Xstrata with respect to the export of the miner’s coal, for a fee of 50 cents a ton. In return, Xstrata provides market advice. This shared intelligence on prices and production is extremely market sensitive information; it’s worth $40 million annually in fees alone, but the strategic value is far higher.

It’s a similar picture with copper and zinc, which is worth around $2 million in fees but is strategically critical for Glencore. Lawyers say that if the merger fails, sharing information on prices and production with a competitor falls foul of anti-trust laws.

Ultimately, Xstrata needs another company to market its production, opening up the possibility it could turn to Glencore’s other industry rivals, such as Trafigura or Noble, a potentially disasterous move for the Swiss mining giant’s commodities activities.

The potential marketing issues would create another headache for Glencore: governance.